OUTSIDE THE BOX
Oil prices going to the century mark
Commentary: Businesses need to prepare for much higher energy costs
Last Update: 7:26 AM ET Nov 3, 2006
UNIVERSITY PARK, Penn. (MarketWatch) -- When it comes to the price of oil, what goes down will come up again.
Ever since the beginning of the oil industry, we have experienced dramatic rises and falls in the price of petroleum with oil prices fluctuating some 700 percent over the past two decades. The lower prices at the pump today will not last long; we can easily expect oil prices to rise to $100 a barrel over the next five years.
This increase will not only affect what our immediate heating and transportation costs are, but will also have significant and lasting implications for the global competitiveness of many of our industries from airlines to basic chemicals to plastics to auto parts.
American Airlines reports that a 1 cent increase in the price of a gallon of jet fuel, for example, translates into an additional $33 million in annual costs. Once oil prices go over the century mark, we can expect that to cause a ripple effect: lower profits, fewer flights, higher ticket prices, layoffs of personnel, and cutbacks in new aircraft or part orders. Some airlines will simply collapse.
Higher oil prices reduce consumer spending power as more income is used to fill gas tanks, making less money available for clothing, household items, electronics, vacations, and entertainment. Automobile manufacturers can expect to see drops in sales of SUVs, light trucks and vans. Although some consumers are likely to switch to smaller cars, we can expect to see production cutbacks and layoffs across the automobile sector.
Cruise lines and other tourism industries will feel the pinch when higher oil costs translates into cancelled vacations. Hotels, restaurants and other tourism industries will experience a sharp reduction in revenue.
Chemical companies will need to locate in low cost energy locations simply to remain competitive, transportation companies will cancel services or raise prices to keep delivery schedules.
Strategists in corporate boardrooms need to re-examine their assumptions on how increases will impact business and company profits. It is not a matter of will oil reach $100 a barrel, but when.
We've seen oil prices reach all-time highs in the past year. Pundits and industry experts from around the world have weighed in with their reasons for these spikes. Everything from speculation to the vagaries of supply and demand to the lack of technological advancements in drilling has been blamed. Even before the devastating hurricanes of 2005, world oil markets were subject to a degree of strain not experienced for decades. In recent years, the demand for oil has accelerated as global economic growth, fueled primarily by the United States and China, has strengthened.
As far as the future of oil industry is concerned, we can be assured of two things. The first is that the long-term demand for oil will increase. We have already seen how global economic and population growth have both fueled the astronomical thirst for this vital commodity.
On top of the general global increase in demand, the U.S. and China continue to gobble up more and more oil in order to satisfy their respective populations' growing use of oil and petroleum based products.
The U.S. with 4.6% of the world population uses 25% of the world's oil output and the consumer shows little sign of abandoning large gas-guzzlers. While oil at $70 a barrel for a short period last summer reduced petroleum consumption, by September of 2006 it was on the rise again.
China's oil imports in September of 2006 were 24% more than September 2005 and 2.4% more than the previous record in the middle of January.
The second, and most unfortunate, certainty we can predict is that the many significant factors other than increased demand, such as geopolitical instabilities, natural disasters, and other supply hindrances will undoubtedly occur. In particular, we hold our collective breath as the largest repository of oil, Saudi Arabia, may be experiencing precarious and uncertain events that will cause oil prices to climb to record levels.
With one-fourth of the world's proven oil reserves and some of the lowest production costs, Saudi Arabia stands to remain the world's largest net oil exporter for the foreseeable future. Saudi Arabia is the only OPEC nation with spare capacity and has repeatedly stepped in to assure adequate petroleum supply to the global marketplace.
But Saudi Arabia continues to face serious long-term economic challenges that could cause Saudi production to fall short of the ever-increasing global demand and the consequences will be significant.
With the ensuing youth bulge occurring all over the Middle East, it is estimated that over the next 10 years this huge population growth means that the region will require an additional 100 million jobs just to ensure economic and political stability. To illustrate the enormity of this issue, in the U.S., last year we saw a record 200,000 new jobs created in one month, but even at this elevated rate the best outcome the U.S. could hope for would be to have created 24 million jobs over the next decade. (The most likely estimate would be 15 million jobs created in a decade.) Energy forecasts call for Saudi Arabia to nearly double its output in the next decade. Oil executives and government officials in the United States and Saudi Arabia, however, are concerned that capacity will probably stall near current levels or rise by a modest 20%, potentially creating a significant gap in the global energy supply.
To meet the forecasted petroleum demand in the next two decades, Saudi Arabia would have to double its production, and the West would need Iran -- OPEC's second-largest oil producer -- to triple its production.
Standoffs between Iran and the West over that country's nuclear program fuel rising geopolitical tensions, and helped drive oil to record highs above $75 this year. Continuation of these standoffs will drive oil to new highs of $100 a barrel.
According to Oil and Gas Journal, Iran's current sustainable crude oil production capacity is estimated at around 3.9 million barrels a day, which is approximately 100,000 barrels a day below OPEC's production quota of 4.037 million barrels a day. Some analysts believe that Iran's capacity is lower, and that it could fall even further until new oilfield developments come online in a few years.
To aggravate the matter, Iran's own domestic consumption is rising at a rapid 10 percent per year, and Iran is already a major importer of refined products to satisfy its domestic needs. If sufficient jobs cannot be created in oil exporting nations political instability will reduce not increase oil production.
It is not likely that Saudi Arabia and Iran will increase their capacity, and the result will be huge spikes in the price of oil. Consumers around the globe will feel the pinch of high oil prices daily -- at the gas station and at home. Downstream industries and businesses are certainly not immune, and many will move operations overseas. The chemical and plastic industries located in high energy locations like Germany or the U.S. are particularly vulnerable and worried. Given the fact that every $1 increase in the price of gas costs the chemical and plastic industries $3.7 billion, should we be surprised? Further down stream would be the users of plastics. Given the rise in production of items as varied as consumer electronics and autos in the emerging markets where will the plastic components be manufactured?
Even with consumers and industry reacting to the inevitable occasional temporary weaning from the gluttonous consumption of oil, and as prices go down from that minor decrease in demand, practically simultaneously our unconscious appetite for oil again increases as we easily forget the belt-tightening times.
Oil prices going to the century mark
Commentary: Businesses need to prepare for much higher energy costs
Last Update: 7:26 AM ET Nov 3, 2006
UNIVERSITY PARK, Penn. (MarketWatch) -- When it comes to the price of oil, what goes down will come up again.
Ever since the beginning of the oil industry, we have experienced dramatic rises and falls in the price of petroleum with oil prices fluctuating some 700 percent over the past two decades. The lower prices at the pump today will not last long; we can easily expect oil prices to rise to $100 a barrel over the next five years.
This increase will not only affect what our immediate heating and transportation costs are, but will also have significant and lasting implications for the global competitiveness of many of our industries from airlines to basic chemicals to plastics to auto parts.
American Airlines reports that a 1 cent increase in the price of a gallon of jet fuel, for example, translates into an additional $33 million in annual costs. Once oil prices go over the century mark, we can expect that to cause a ripple effect: lower profits, fewer flights, higher ticket prices, layoffs of personnel, and cutbacks in new aircraft or part orders. Some airlines will simply collapse.
Higher oil prices reduce consumer spending power as more income is used to fill gas tanks, making less money available for clothing, household items, electronics, vacations, and entertainment. Automobile manufacturers can expect to see drops in sales of SUVs, light trucks and vans. Although some consumers are likely to switch to smaller cars, we can expect to see production cutbacks and layoffs across the automobile sector.
Cruise lines and other tourism industries will feel the pinch when higher oil costs translates into cancelled vacations. Hotels, restaurants and other tourism industries will experience a sharp reduction in revenue.
Chemical companies will need to locate in low cost energy locations simply to remain competitive, transportation companies will cancel services or raise prices to keep delivery schedules.
Strategists in corporate boardrooms need to re-examine their assumptions on how increases will impact business and company profits. It is not a matter of will oil reach $100 a barrel, but when.
We've seen oil prices reach all-time highs in the past year. Pundits and industry experts from around the world have weighed in with their reasons for these spikes. Everything from speculation to the vagaries of supply and demand to the lack of technological advancements in drilling has been blamed. Even before the devastating hurricanes of 2005, world oil markets were subject to a degree of strain not experienced for decades. In recent years, the demand for oil has accelerated as global economic growth, fueled primarily by the United States and China, has strengthened.
As far as the future of oil industry is concerned, we can be assured of two things. The first is that the long-term demand for oil will increase. We have already seen how global economic and population growth have both fueled the astronomical thirst for this vital commodity.
On top of the general global increase in demand, the U.S. and China continue to gobble up more and more oil in order to satisfy their respective populations' growing use of oil and petroleum based products.
The U.S. with 4.6% of the world population uses 25% of the world's oil output and the consumer shows little sign of abandoning large gas-guzzlers. While oil at $70 a barrel for a short period last summer reduced petroleum consumption, by September of 2006 it was on the rise again.
China's oil imports in September of 2006 were 24% more than September 2005 and 2.4% more than the previous record in the middle of January.
The second, and most unfortunate, certainty we can predict is that the many significant factors other than increased demand, such as geopolitical instabilities, natural disasters, and other supply hindrances will undoubtedly occur. In particular, we hold our collective breath as the largest repository of oil, Saudi Arabia, may be experiencing precarious and uncertain events that will cause oil prices to climb to record levels.
With one-fourth of the world's proven oil reserves and some of the lowest production costs, Saudi Arabia stands to remain the world's largest net oil exporter for the foreseeable future. Saudi Arabia is the only OPEC nation with spare capacity and has repeatedly stepped in to assure adequate petroleum supply to the global marketplace.
But Saudi Arabia continues to face serious long-term economic challenges that could cause Saudi production to fall short of the ever-increasing global demand and the consequences will be significant.
With the ensuing youth bulge occurring all over the Middle East, it is estimated that over the next 10 years this huge population growth means that the region will require an additional 100 million jobs just to ensure economic and political stability. To illustrate the enormity of this issue, in the U.S., last year we saw a record 200,000 new jobs created in one month, but even at this elevated rate the best outcome the U.S. could hope for would be to have created 24 million jobs over the next decade. (The most likely estimate would be 15 million jobs created in a decade.) Energy forecasts call for Saudi Arabia to nearly double its output in the next decade. Oil executives and government officials in the United States and Saudi Arabia, however, are concerned that capacity will probably stall near current levels or rise by a modest 20%, potentially creating a significant gap in the global energy supply.
To meet the forecasted petroleum demand in the next two decades, Saudi Arabia would have to double its production, and the West would need Iran -- OPEC's second-largest oil producer -- to triple its production.
Standoffs between Iran and the West over that country's nuclear program fuel rising geopolitical tensions, and helped drive oil to record highs above $75 this year. Continuation of these standoffs will drive oil to new highs of $100 a barrel.
According to Oil and Gas Journal, Iran's current sustainable crude oil production capacity is estimated at around 3.9 million barrels a day, which is approximately 100,000 barrels a day below OPEC's production quota of 4.037 million barrels a day. Some analysts believe that Iran's capacity is lower, and that it could fall even further until new oilfield developments come online in a few years.
To aggravate the matter, Iran's own domestic consumption is rising at a rapid 10 percent per year, and Iran is already a major importer of refined products to satisfy its domestic needs. If sufficient jobs cannot be created in oil exporting nations political instability will reduce not increase oil production.
It is not likely that Saudi Arabia and Iran will increase their capacity, and the result will be huge spikes in the price of oil. Consumers around the globe will feel the pinch of high oil prices daily -- at the gas station and at home. Downstream industries and businesses are certainly not immune, and many will move operations overseas. The chemical and plastic industries located in high energy locations like Germany or the U.S. are particularly vulnerable and worried. Given the fact that every $1 increase in the price of gas costs the chemical and plastic industries $3.7 billion, should we be surprised? Further down stream would be the users of plastics. Given the rise in production of items as varied as consumer electronics and autos in the emerging markets where will the plastic components be manufactured?
Even with consumers and industry reacting to the inevitable occasional temporary weaning from the gluttonous consumption of oil, and as prices go down from that minor decrease in demand, practically simultaneously our unconscious appetite for oil again increases as we easily forget the belt-tightening times.
